A Matter of Trust: Understanding Worldwide Public Pension Conversions

Kent Smetters, Walter Theseira

NBER Retirement Research Center Paper No. NB 08-15
Issued in September 2008

Fundamental reform of social security systems from traditional pay-as-you-go defined benefit systems toward defined-contribution accounts represents one of the most important fiscal policy changes worldwide during the past century. Current explanations of this phenomenon lack theoretical justification or empirical support. In fact, the traditional pension model is likely superior along several important dimensions. So why have so many countries reformed? Adding to this puzzle is that these reforms have taken on numerous shapes and sizes across the world, and typically have been larger in developing countries facing less severe demographic problems. We propose a simple model of "intergenerational trust" that is consistent with these stylized facts. Empirical analysis is provided that supports the basic tenets of the model.

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